Lots of Stocks: The Fed's Retirement Plan

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Lots of Stocks: The Fed's Retirement Plan

From Ms. Teresa Ghilarducci's 03-16-99 report...

"Largely as a result of its unusually heavy asset allocation in domestic equities, the Fed's retirement fund has not needed an employer contribution since 1986. And the fund has achieved these healthy returns while operating with significant investment restraints  including a uniquely broad investment screen targeting firms subject to social or political censure.


Since 1934, employees of the Federal Reserve System have been covered by a defined benefit pension plan, the Retirement Plan for Employees of the Federal Reserve System. Eligible employees also may participate in a supplemental defined contribution plan, the Federal Reserve Thrift Plan. The main defined benefit plan accounts for 70 percent of retirement system assets and contains two benefit structures  a Board Plan which covers approximately 600 Board of Governors employees and a Bank Plan which includes all other Board employees and all eligible Reserve Bank staff.

Altogether the two benefit structures cover 42,563 current Fed employees and beneficiaries. The systems $8.1 billion in combined assets places it 112th in Pension & Investments magazine's annual ranking of U.S. pension plans.

A five-person Committee on Employee Benefits (three Fed governors and two Reserve Bank presidents) provides general oversight of the plan while another five-member Committee on Investment Performance promulgates investment guidelines and supervises the selection and monitoring of fund managers. The investment performance group includes three Reserve Bank presidents, the New York Fed's first vice- president and one governor -- Edward W. Kelley, Jr., who bears primary responsibility for administrative matters on the Board. Meanwhile, a small group headquartered at the New York Fed and funded by the plan sponsor provides day-to-day administration of the retirement system.

Noteworthy features:

* In comparison to other public and private sector plans, the Fed plan consistently devotes a large share of its asset allocation to stocks. The plan's investment guidelines permit as much as 80 percent of assets to be invested in the stock market; approximately two-thirds of plan assets are invested in publicly traded equities today.

According to data contained in a 1996 General Accounting Office report, only one of the 34 federal defined benefit plans invested a larger share of its assets in equities than did the Fed plan (see Table 1). Today, equities constitute a bigger portion of asset mix for the Feds plan than they do for the countrys largest 200 or largest 1000 defined benefit plans  both in the aggregate and in comparison to the major types of retirement plan categories (see Table 2).

Despite Alan Greenspans repeated warnings about government funds investing in corporate equities, the stock market has been very good to Fed plan participants. As a result of substantial past ontributions to its corpus and diligent investments in stocks, the Fed plan has achieved such handsome returns that the central bank hasn't made an employer contribution since 1986. Indeed, Governor Kelley recently stated that the Fed annually includes $30-40 million of excess plan income in its ongoing remittance of after-expense earnings to the U.S. Treasury.

* The Fed plan operates under a number of investment restrictions, the most intriguing of which is a blanket prohibition on investing in any company "whose products or activities are subject to broad-based social or political censure."

"This is a remarkably broad screen," says Peter Kinder, co-author of The Social Investment Almanac and president of KLD,Inc., a highly regarded social-investment research firm. "Even if one takes a relatively narrow view of what broad-based means, it would certainly seem to take in the entire 'sin stock' area as well as the major oils and some of the drug companies these days."

Paul Lipson, the Fed plan's chief investment officer, told us that the censure guideline was adopted in 1978. According to Lipson, plan administrators use the screen to instruct investment managers to avoid "appearance problems" in handling the retirement portfolio.

Lipson and Governor Kelley both say the Fed plan has never directed fund managers to divest a particular stock in accordance with the screen. But Lipson explains that the guideline has provided a touchstone for ongoing dialog between plan administrators and fund managers on subjects such as corporate governance, the tobacco sector and companies doing business in South Africa. Lipson characterizes the social screen as "not troublesome." And the plan's superior returns indicate that the screen certainly hasn't compromised fund performance during the past two decades.

* Investment guidelines prohibit a variety of investments and investment techniques (for example, margin purchases and short sales of assets). Along with the broad social screen and an assortment of risk-control standards, these guidelines constitute the investment committees marching orders to the eight firms that manage the plans portfolio.

The list of prohibited financial instruments includes foreign exchange contracts, puts, calls and options  all of which are standard equipment for other retirement plans.

And the Feds plan uses only exchange-traded futures contracts, not over-the-counter derivatives. At the end of its most recent reporting period (1997), the Feds plan held 201 outstanding futures contracts with an aggregate notional value of $41.1 million.

Fund guidelines also prohibit the Feds retirement plan from investing in commodities or commodity contracts, unregistered stock, non-dollar denominated securities or non-investment grade securities. In addition, the guidelines bar investment in the stocks of depository institutions, primary dealers and the insurance companies and management firms that handle the plans portfolio.

These restrictions are intended to help the fund steer clear of firms that the Fed regulates or with which it engages in transactions. However, as the consolidation of financial sectors continues, the Fed plan may have to broaden its list of prohibited financial industry investments or tighten loopholes in its current guidelines in order to insulate pension fund management from conflicts of interest.

For example, the ban on fund investments in banks, thrifts and primary dealers includes a provision that permits the Fed plan to own stock in firms with deposit-taking or primary-dealer subsidiaries so long as the subsidiary accounts for less than 25 percent of the parent company's annual revenue. This loophole conceivably may lead to situations where the retirement income of Fed bank examiners is linked to the market value of companies whose large subsidiaries they supervise. As the Fed and other financial regulators continue to promote the blurring of lines between previously distinct financial sectors  as well as between financial and nonfinancial enterprise  such potential conflicts could become increasingly common.

* Plan coverage extends to all eligible employees of the Reserve Banks, which are technically private corporations wholly owned by other private corporations  the member banks who are their sole stockholders.

Over the years, Reserve Banks have insisted in a variety of legal proceedings that they should not be considered federal agencies for the purpose of applying statutes ranging from the Freedom of Information Act to the Service Contract Act.

Though the Reserve Banks are uniquely hybrid institutions, the participation of their employees in a federal government retirement plan adds weight to the proposition that the Banks consistently should be deemed federal agencies under the law.

* The plan's operating assumptions and mechanisms sometimes depart from the central bank's official views on price movements and measurements.

For example, since 1995, the plan has operated with an actuarial assumption of four-percent annual inflation, even though the central tendency of the Fed's own economic forecasts has correctly projected substantially lower inflation. Actuarial assumptions involve significantly longer time frames than does the Feds annual economic outlook. Still, the persistence of this particular assumption in the face of sustained low inflation represents an ironic denial of the central banks successful price stability campaign of the past 20 years.

Perhaps even more strangely, the Fed plan established an automatic cost-of-living adjustment (COLA) at the same time Fed Chairman Alan Greenspan was publicly criticizing the standard for calculating COLAs. In November 1994, Greenspan launched a long-running effort to revise the consumer price index, telling Congress that the CPI overstated inflation by at least one percentage point, thereby swelling benefit payments and the budget deficit. Seven months later, the index hadn't been altered despite Greenspan's campaign. But the Fed amended its retirement plan to make CPI-based cost-of-living increases automatic rather than subject to Board of Governors approval.

Asset Mix at the Fed Retirement Plan and Other Large DB Plans: 1998

Retirement Plans...........Percent Asset Mix In


Federal Reserve............63.0%..............none...........63.0%

Top 200 DB Plans...........45.6%..............12.1%..........57.7%

Top 1000 DB Plans..........46.2%..............11.8%..........58.0%

Top 200 Public DB Plans....45.6%..............11.2%..........56.8%

Top 1000 Public DB Plans...45.6%..............11.2%..........56.8%

Top 200 Corp DB Plans......45.1%..............15.5%..........60.6%

Top 1000 Corp DB Plans.....46.7%..............14.2%..........60.9%

Top 200 Union DB Plans.....46.0%...............6.9%..........52.9%

Top 1000 Union DB Plans....47.9%...............4.2%..........52.1%

SOURCE: Pensions & Investments, January 25, 1999

( Ms. Ghilarducci is associate professor of economics at the University of Notre Dame and the author of Labors Capital: The Economics and Politics of Private Pensions. She is a member of the U.S. Pension Benefit Guaranty Corporation Advisory Board and a Trustee of the Indiana Public Employees Retirement Fund. )


I omitted one table that displayed the many U.S. agencies that have retirement plans w/ no equity investments. I just couldn't get it formatted correctly. It included plans for the military, civil service, courts and judges. A total of thirteen (13), including seven pay-as-you-go plans.

-- Spoonfed (Spoonfed@spoonfeddd.xcom), February 16, 2000


Hi Spoonfed Any idea which companies they are currently invested in. Sounds like the know what they are doing maybe we should do the same.


-- justthinkin com (justthinkin@money.com), February 16, 2000.

I'm so happy for them. And I have a great idea.

Let the whole of the Fed take early retirement, right now, this year.

-- JIT (justintime@rightnow.net), February 16, 2000.

JIT: My sentiments exactly.

-- Daisy Jane (deeekstrand@access1.com), February 17, 2000.

Please folks,let's NOT retire them,many are needed to keep an Eye on the robbing,thieving,lying Corporate Criminals and Wall Street Gangsters and Leeches,that has infested the financial American Landsscape!!!

-- Hosed Again (222@222.222), February 17, 2000.

Hosed-- Don'cha think that the same vermin manage the FED itself?

-- CuriousMinds (WantTo@Know.com), February 17, 2000.

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